As yields on 10-year U.S. Treasuries nearly touched 3 percent on Thursday for the first time since July 2011, interest rate risk remains a very real concern for fixed income investors, according to Fran Rodilosso, Fixed Income Portfolio Manager at Market Vectors ETFs.
“The concept of the Fed beginning to taper asset purchases has, in my opinion, not only been the trigger for the normalization of Treasury yields, but also the primary cause of recent outflows and volatility in a variety of markets, including high yield and emerging markets debt,” said Rodilosso. “Even though these markets remain exposed to rising interest rates, I believe some value has crept back into many of these markets.”
“In any case, I still see rising interest rates as the key risk for fixed income investors, as U.S. Treasury yields have been kept artificially low by non-market forces in the form of pure central bank intervention,” he continued. “Reducing this interest rate risk has typically meant lowering portfolio duration*, but that typically has come at the expense of lower income potential.”
One approach that Rodilosso pointed to that has historically proven to be an effective means of defending against higher rates while still generating some income for a portfolio has been a Treasury-hedged approach. Market Vectors offers the Treasury-Hedged High Yield Bond ETF (NYSE Arca: THHY), which by seeking to track its benchmark index, provides a hedge against rising interest rates by combining the more liquid portion of the high-yield bond universe with short positions in 5-year U.S. Treasury notes.
While the 10-year Treasury’s yield at 3 percent is currently the headline grabbing news, the high yield market historically has averaged a duration much closer to that of the 5-year U.S. Treasury note. Rodilosso continued, “And, until a few weeks ago, 5-year yields were not going up as rapidly as 10-year yields, which was better for high-yield investors. However, since August 19, the 5-year yield has been moving higher more rapidly than that of the 10-year by about 13 basis points. When you consider that the 5-year U.S. Treasury Note’s yield reached 1.75 percent today, that move certainly does not seem high, or even normal, from a historical perspective.”
Rodilosso went on to add that for U.S. high yield investors, the news is mixed. “Aggressive tapering, and ultimately movement away from zero-interest-rate policy, appear to hinge on an acceleration of the U.S. economy. Generally speaking, I believe that scenario is very good news for credit fundamentals. But as rates head higher, particularly in what have virtually been quantum leaps in recent months, I think that there is not enough cushion in credit spreads to absorb such a move.”
Mr. Rodilosso has 20 years of experience trading and managing risk in fixed income investment strategies, including 17 years covering emerging markets. In addition to THHY, Mr. Rodilosso also oversees Emerging Markets Local Currency Bond ETF (NYSE Arca: EMLC), Emerging Markets High Yield Bond ETF (NYSE Arca: HYEM), Investment Grade Floating Rate ETF (NYSE Arca: FLTR), Fallen Angel High Yield Bond ETF (NYSE Arca: ANGL), International High Yield Bond ETF (NYSE Arca: IHY), LatAm Aggregate Bond ETF (NYSE Arca: BONO) and Renminbi Bond ETF (NYSE Arca: CHLC). As of June 30, 2013, the total assets for these ETFs amounted to approximately $1.9 billion.
*Duration measures a bond's sensitivity to interest rate changes that reflects the change in a bond's price given a change in yield.
About Market Vectors ETFs
Market Vectors exchange-traded products have been offered since 2006 and span many asset classes, including equities, fixed income (municipal and international bonds) and currency markets. The Market Vectors family totaled $21.8 billion in assets under management, making it the seventh largest ETP family in the U.S. and tenth largest worldwide as of June 30, 2013.
Market Vectors ETFs are sponsored by Van Eck Global. Founded in 1955, Van Eck Global was among the first U.S. money managers helping investors achieve greater diversification through global investing. Today, the firm continues this tradition by offering innovative, actively managed investment choices in hard assets, emerging markets, precious metals including gold, and other alternative asset classes.
There are risks involved with investing in ETFs, including possible loss of money. Shares are not actively managed and are subject to risks similar to those of stocks, including those regarding short selling and margin maintenance requirements. Ordinary brokerage commissions apply. Debt securities carry interest rate and credit risk. Interest rate risk refers to the risk that bond prices generally fall as interest rates rise and vice versa. Credit risk is the risk of loss on an investment due to the deterioration of an issuer's financial health. The Funds' underlying securities may be subject to call risk, which may result in the Funds having to reinvest the proceeds at lower interest rates, resulting in a decline in the Funds' income.
The Funds may be subject to credit risk, interest rate risk and a greater risk of loss of income and principal than those holding higher rated securities. As the Funds may invest in securities denominated in foreign currencies and some of the income received by the Funds may be in foreign currency, changes in currency exchange rates may negatively impact the Funds’ returns. Investments in emerging markets securities are subject to elevated risks which include, among others, expropriation, confiscatory taxation, issues with repatriation of investment income, limitations of foreign ownership, political instability, armed conflict and social instability. THHY is subject to risks associated with investing in high-yield securities; which include a greater risk of loss of income and principal than funds holding higher-rated securities, as well as concentration risk; hedging risk; and short sale risk. Investors should be willing to accept a high degree of volatility and the potential of significant loss. The Funds may loan their securities, which may subject them to additional credit and counterparty risk. For a more complete description of these and other risks, please refer to the Funds’ prospectus and summary prospectus.
The “net asset value” (NAV) of an ETF is determined at the close of each business day, and represents the dollar value of one share of the ETF; it is calculated by taking the total assets of an ETF subtracting total liabilities, and dividing by the total number of shares outstanding. The NAV is not necessarily the same as an ETF's intraday trading value. Investors should not expect to buy or sell shares at NAV. Total returns are based upon closing “market price” (price) of the ETF on the dates listed.
Fund shares are not individually redeemable and will be issued and redeemed at their NAV only through certain authorized broker-dealers in large, specified blocks of shares called “creation units” and otherwise can be bought and sold only through exchange trading. Creation units are issued and redeemed principally in kind. Shares may trade at a premium or discount to their NAV in the secondary market.
Diversification does not assure a profit nor does it protect against a loss.
Investing involves substantial risk and high volatility, including possible loss of principal. Bonds and bond funds will decrease in value as interest rates rise. An investor should consider the investment objective, risks, charges and expenses of a Fund carefully before investing. To obtain a prospectus and summary prospectus, which contain this and other information, call 888.MKT.VCTR or visit vaneck.com/etf. Please read the prospectus and summary prospectus carefully before investing.
Van Eck Securities Corporation, Distributor
335 Madison Avenue, New York, NY 10017
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